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"How is massive inflation not eventually inevitable?

I was thinking about the current economic situation on the drive into work this morning. Playing with some rough, back-of-the-envelope type of calculations in my head I decided that massive inflation is inevitable in the United States. Yes, I know that everyone from consumers to hedge funds to investment banks is going through a massive deleveraging process which will certainly be deflationary near term.

However, the value of a country's currency ultimately determines how much one can buy with it and in turn its rate of inflation. In order for a currency to have value, there has to be demand for it. The U.S. government is spending money at the fastest rate in history to bail out everyone on Earth, from investment banks, to AIG (again), to the automakers (this hasn't happened yet...but mark my word it will), and so on. In addition to this there will likely be another huge stimulus package. The Democratic idea of pay go is completely dead. This means that the U.S. is going to have to create a massive amount of debt to finance all of this spending.

Here comes the rough calculation part. Ignoring the elephant in the room, Social Security and Medicare, the U.S. national debt (after backing out trust finds) currently sits at between 5 and 6 trillion dollars. This is already the highest percentage of the country's GDP since the 1950s. I expect that to grow by at least 2 billion through the remainder of 2008 and all of 2009 (not to mention the fact that GDP will likely fall). This will easily put the U.S. debt at its highest level since World War II. The difference is, over the past 50 years there has been a dramatic shift in who buys U.S. treasuries from our "friends" like Germany and Japan to countries that the U.S. has a much less stable relationship with, like China and Russia.

China been one of the largest foreign buyers of U.S. debt, but it was doing so to finance our purchases of its cheap exports to the United States. As our consumption of Chinese goods falls, and China spends its reserves to prop up its own economy its desire to purchase future U.S. debt will wane.

Once the "flight to safety" trade is over and the demand for dollars to settle trades slows I can't envision any situation where the value of the U.S. dollar doesn't begin to slide once again. The question is in relation to what? After initially underestimating the extent of the problems in the EU economy (and its stability), I personally am not a big fan of the Euro. Perhaps the dollar will fall in relation to the Yen (the unwinding of the carry trade has certainly helped it). If China can right its ship, perhaps the Yuan will rise versus the U.S. dollar. Certainly once the global economy stabilizes at some point in 2009 or early 2010 commodities that are priced in U.S. dollars, like oil will eventually begin to rise.

I'm just sort of thinking aloud here. Blogs are good for that. Can someone explain to me how the U.S. dollar will remain strong? Is the only bull case for it that it is the only game in town because everyone else in the world is as messed up as we are and there's no where else to put money?

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